CHAPTER 3 46 between the proceeds received on selling the asset and its carrying amount. Received from selling amount or price that would be received to sell an asset also known as a fair value (MFRS 16). 3.3.2 Gain or Loss on Disposal a) Gain on Disposal of a Fixed Asset When a fixed asset is sold for an amount higher its carrying amount at the date of disposal, the excess is recognized as gain on disposal. b) Loss on Disposal of a Fixed Asset If a fixed asset is sold at a price lower than its carrying amount at the date of disposal, a loss is recognized equal to the excess of carrying amount over the sale proceeds. KEY POINT Gain/Profit = Sales Price exceed Carrying Amount/ Book Value KEY POINT Loss = Sales Price less than Carrying Amount/ Book Value
CHAPTER 3 47 The accounting for disposal of fixed assets can be summarized as follows: EXAMPLE 3.10 On January 2017, Company b purchased equipment at a cost of RM2,000,000. The company depreciate the asset on a straight-line method by monthly basis at 10% per annum and was sold at RM500,000 on 31 December 2019. Accumulated depreciation until date of sales are: a) RM1,800,000 b) RM1,400,000 1. Remove the asset from the account asset Dr Disposal Account xx Cr Fixed Asset xx 2. Remove accumulated depreciation for disposable asset Dr Accumulated Depreciation xx Cr Disposal Account xx 3. Record cash receive or the receivable created from the sale Dr Cash/Bank xx Cr Disposal Account xx 4. Recognize the resulting gain or loss Dr Disposal Account xx Cr Income Statement (Gain) xx Or Dr Income Statement (Loss) xx Cr Disposal Account xx
CHAPTER 3 48 SOLUTION a) Gain/ (loss) = Sales - Carrying Amount/ Book Value = RM500,000 – (2,000,000 – 1,800,000) = RM300,000 Journal entries: Dr Bank RM500,000 Accumulated Depreciation RM1,800,000 Cr Equipment RM2,000,000 SOCI (gain from disposal) RM300,000 b) Gain/ (loss) = Sales - Carrying Amount/ Book Value = RM500,000 – (2,000,000 – 1,400,000) = (RM100,000) Journal entries: Dr Bank RM500,000 Accumulated Depreciation RM1,400,000 SOCI (loss from disposal) RM100,000 Cr Equipment RM2,000,000
CHAPTER 3 49 EXAMPLE 3.11 The following is an extract of Statement of Financial Position for Al-Meerah Sdn Bhd as at 1st January 2019. Cost Accumulated Depreciation Vehicle RM76,000 RM30,400 Office Equipment RM25,400 RM4,800 The following transactions are occurred for the year 2019: 1 January Purchase a new office equipment by cash RM5,600 30 April Sold a vehicle A purchased on 1st January 2015 at cost RM28,000 and fair value RM16,000. 30 June Sold office equipment for RM11,000 which is bought on 1 July 2016 at cost RM19,000. It is the business policy by monthly basis. Depreciation for vehicle 10% per year by straight line method and office equipment 5% per year by reducing balance method You are required to prepare: a) Calculation of depreciation for assets b) Assets Account c) Accumulated Depreciation Accounts Disposal of Assets Account
CHAPTER 3 50 SOLUTION a) Calculation of depreciation for assets Vehicle Year Vehicle A RM28,000 Balance RM48,000 SOCI 2015 2,800 2,800 2016 2,800 2,800 2017 2,800 2,800 2018 2,800 2,800 2019 2,800 x 4/12 = 933 4,800 5,733 12,133 (dispose) Office equipment Year Old O/Equipment RM19,000 New O/Equipment RM5,600 Balance RM6,400 SOCI (RM) 2016 950 x 6/12 = 475 Acc. Depreciation = 4,800 – 2,275 = 2,525 Depreciation = (6,400-2,525) 5% = 194 475 2017 18,525 x 5% = 926 926 2018 17,569 x 5% = 874 874 2019 16,695 x 5% x 6/12 = 417 280 891 2,692 (dispose) b) Asset Account Vehicle Account RM RM Balance b/d 76,000 Disposal 28,000 Balance c/d 48,000 76,000 76,000
CHAPTER 3 51 Office Equipment Account RM RM Balance b/d 25,400 Disposal 19,000 Cash 5,600 Balance c/d 12,000 31,000 31,000 c) Accumulated Depreciation Accounts Accumulated Depreciation Account - Vehicle RM RM Disposal 12,133 Balance b/d 30,400 Balance c/d 24,000 SOCI 5,733 36,133 36,133 Accumulated Depreciation Account – Office Equipment RM RM Disposal 2,692 Balance b/d 4,800 Balance c/d 2,999 SOCI 891 5,691 5,691 d) Disposal of Assets Account Disposal Account – Vehicle RM RM Vehicle 28,000 Acc. Dep 12,133 SOCI (Gain) 133 Cash 16,000 28,133 28,133 Disposal Account – Office Equipment RM RM Off. Equipment 19,000 Acc. Dep 2,692 Cash 11,000 SOCI (Loss) 5,308 19,000 19,000
CHAPTER 3 52 Asset Exchange It is also possible for companies to exchange an existing asset for a new asset. For instance, an existing old machine exchanged for a new machine. This is also known as trade in transaction. The disposal value of the asset will be the trade in value. The exchange asset may be at a loss (exchange value is less than the book value) or gain (exchange value exceeds the book value) to the entity. Any difference between the value of old asset and new asset is settled by the payment or receiving of cash. EXAMPLE 3.12 The old machinery was exchanged with a new one on 1 January 2019. The new machine cost is RM120,000. The supplier of the new machine has accepted RM42,000 for the old machine as trade in value. The remaining amount was settled by cheque. The cost of the old asset is RM140,000 and accumulated depreciation till the date of exchange is RM96,000. Prepare: a) Calculate gain or loss on exchange transaction b) Show journal entries c) Prepare Machine Account and Disposal Account SOLUTION a) Gain/ (loss) = Book Value – Exchange Value = (140,000 – 96,000) – 42,000 = RM2,000 b) Journal entries Dr Machine (new) 120,000 Accumulated Depreciation 96,000 SOCI (loss on exchange) 2,000 Cr Machine (old) 140,000 Bank 78,000
CHAPTER 3 53 c) Machine Account and Disposal Account Machine Account RM RM Balance b/d 140,000 Disposal 140,000 Disposal 42,000 Balance c/d 120,000 Bank 78,000 260,000 260,000 Disposal Account – Machine RM RM Machine 140,000 Acc. Dep 96,000 Machine 42,000 SOCI (Loss) 2,000 140,000 140,000 EXAMPLE 3.13 Sutera Sdn. Bhd. started a business on 1 January 2010. Below are transactions for non-current assets bought and sold during the financial period ended 31 December 2019. Non-Current Assets Cost (RM) Accumulated Depreciation (RM) Machine 190,500 28,200 The following transactions occurred during the year 2019. 1 March 2019 Machine A, which was bought on 10 April 2017 at the cost of RM45,000 have been traded in with a new Machine B valuing RM78,000. The trade in value was RM 36,500. The balance was paid by cheque. 25 August 2019 Bough new Machine C cost RM91,000 by cheque. 2 Sept 2019 Machine D, bought on 1 June 2016 for RM36,000 was sold for RM19,000. All vehicles are depreciated at the rate of 10% using straight line method and is calculated according to monthly basis.
CHAPTER 3 54 You are required to prepare on 31 December 2019: a) Machine Account b) Accumulated Depreciation Account c) Disposal Account SOLUTION Year Machine A RM45,000 Machine B RM78,000 Machine C RM91,000 Machine D RM36,000 Balance RM109,500 SOCI 2016 3,600 x 7/12 = 2,100 2017 4,500 x 9/12 = 3,375 3,600 2018 4,500 3,600 2019 4,500 x 2/12 = 750 7,800 x 10/12 = 6,500 9,100 x 4/12 = 3,033 3,600 x 8/12 = 2,400 = 10,950 = 23,633 8,625 11,700 a) Machine Account Machine Account RM RM Balance b/d 190,500 Disposal – A 45,000 Disposal – B 36,500 Disposal – D 36,000 Bank 41,500 Balance c/d 278,500 Bank 91,000 359,500 359,500 b) Accumulated Depreciation Account Accumulated Depreciation Account – Machine RM RM Disposal – A 8,625 Balance b/d 28,200 Disposal – D 11,700 SOCI 23,633 Balance c/d 31,508 51,833 51,833
CHAPTER 3 55 c) Disposal Account Disposal Account – Machine RM RM Machine A 45,000 Acc. Dep – A 8,625 Machine D 36,000 Machine – B 36,500 Acc. Dep – D 11,700 Bank 19,000 SOCI (Loss) 5,175 81,000 81,000 3.3.3 Gain or Loss on Revaluation A gain on revaluation is always recognised in equity, under a revaluation reserve (unless the gain reverse’s revaluation losses on the same asset that were previously recognised in the income statement, in this instance the gain is to be shown in the income statement). A revaluation loss should be charged against any related revaluation surplus to the extent that the decrease does not exceed the amount held in the revaluation surplus in respect of the same asset. Any additional loss must be charged as an expense in the statement of profit or loss. EXAMPLE 3.14 On 1 January 2019, Mezz Sdn. Bhd. acquired a piece of land for RM500,000. This company uses the revaluation model for its land. At 31 December 2019, the fair value was: a) RM710,000 b) RM430,000 SOLUTION a) Surplus on revaluation was RM210,000 (RM710,000 – RM500,000) Dr Land RM210,000 Cr Revaluation Reserve RM210,000 b) Deficit on revaluation was RM50,000 (RM500,000 – RM430,000) Dr Statement of comprehensive income RM70,000 Cr Land RM70,000
CHAPTER 3 56 3.4 PRESENTATION OF PROPERTY, PLANT AND EQUIPMENT IN FINANCIAL STATEMENT Property, plant, and equipment are reported as assets in a separate balance sheet classification. Each asset's cost is reported in one account and the cost used up (depreciated) is reported in another account, called accumulated depreciation. Example as below: Bena Jaya Sdn. Bhd. Statement of Financial Position as at 31 December 2019 Assets Current Assets RM RM Cash and Cash Equivalents 180,000 Accounts Receivable 155,000 Less: Allowance for Uncollectible Accounts 5,000 150,000 Total Current Assets 330,000 Property, Plant, and Equipment Land 80,000 Buildings 260,000 Accumulated Depreciation, Buildings 40,000 220,000 Machinery and Equipment 440,000 Accumulated Depreciation, Machinery and Equipment 100,000 340,000 Total Property, Plant, and Equipment 640,000 Total Assets 970,000 Liabilities and Stockholders' Equity Liabilities Current Liabilities Accounts Payable 135,000 Income Taxes Payable 25,000 Wages Payable 10,000 Total Current Liabilities 170,000 Long-term Liabilities 340,000 Total Liabilities 510,000 Stockholders' Equity Common Stock 350,000 Retained Earnings 110,000 Total Stockholders' Equity 460,000 Total Liabilities and Stockholders' Equity 970,000
CHAPTER 3 57 The effects of property, plant, and equipment on the income statement are shown as depreciation expense, which is an operating expense, and as gains or losses on disposals, which are parts of other revenues and expenses. Bena Jaya Sdn. Bhd. Statement of Comprehensive Income for the year ended 31 December 2019 RM Sales 620,000 Cost of Goods Sold 372,000 Gross Profit 248,000 Operating Expenses Supplies Expense 11,000 Wages Expense 135,000 Depreciation Expense, Buildings 1,000 Depreciation Expense, Machinery and Equipment 3,000 Insurance Expense 15,000 Rent Expense 24,000 Uncollectible Accounts Expense 12,000 Total Operating Expenses 201,000 Operating Income 47,000 Other Revenues and (Expenses) 1,000 Income Before Taxes 48,000 Income Taxes Expense 17,000 Net Income 31,000 EXAMPLE 3.15 Use the information in Example 3.13, you are required to prepare the following for the year ended 31 December 2019. a) Statement of Comprehensive Income (extract) b) Statement of Financial Position (extract)
CHAPTER 3 58 SOLUTION a) Statement of Comprehensive Income b) Statement of Financial Position RM Expenses Acc. Depreciation – Machine 23,633 Disposal (loss) 5,175 RM Non-Current Assets Machine 278,500 Accumulated Depreciation (31,508) 246,992
CHAPTER 3 59 EXERCISE 1. A machine is bought on 1 January 2016 for RM1,000 and bought motor vehicle on 1 October 2017 for RM7,200. The firm’s financial year ends on 31 December. The machine is to be depreciated at 10% using the straight-line method and motor vehicle 15% by reducing balance method. You are required to show account for 2016 until 2019: a) Machinery Account b) Accumulated Depreciation Account c) Disposal Account d) Profit and Loss and Balance Sheet (Extracts) 2. A machine was purchased for RM2,000 on 1 January 2017 and is depreciated by 20% each year, using the straight line method. On 31 December 2019, the machine is sold for RM600. Show for the 3 years (2017 - 2019): a) Machine Account b) Accumulated Depreciation Account c) Disposal Account 3. The following information relates to the Motor Vehicles owned by General Motors Sdn. Bhd. Year 2018 1 May Bought Motor Vehicle RM10,000 on credit form Dumin Garage 1 Sept Bought Motor Vehicle RM12,000 by cheque Year 2019 1 May Bought Motor Vehicle for RM13,000 by cash 20 July Sold for RM5,000 cash for the motor vehicle which was bought on 1 May 2018. The financial year of General Motors Sdn. Bhd. ends on 30 April each year. It is the company policy to depreciate its motor vehicles by 20% p.a. on cost.
CHAPTER 3 60 Required to prepare for year ended 30 April 2019 and 2020: a) Calculate the deprecation b) Motor Vehicle Account c) Motor Vehicle Disposal Account d) Provision for Depreciation Account 4. Suzezzz Sdn. Bhd. started a business on 1 January 2010. Below are transactions for non-current assets bought and sold during the financial period ended 31 December 2018. Non Current Assets Cost (RM) Accumulated Depreciation (RM) Machine 90,500 28,200 The following transactions occurred during the year 2019. 1 March 2019 Machine A, which was bought on 10 April 2017 at the cost of RM 45,000 have been traded in with a new Machine B valuing RM78,000. The trade in value was RM 36,500. The balance was paid by cheque. 25 August 2019 Bough new Machine C cost RM91,000 by cheque. All vehicles are depreciated at the rate of 10% using straight line method and is calculated according to monthly basis. You are required to prepare on 31 December 2019: a) Machine Account b) Accumulated Depreciation Account c) Disposal Account d) Statement of Comprehensive Income (extract) e) Statement of Financial Position (extract)
CHAPTER 3 61 5. Huge Profit Sdn. Bhd. have these following machines as at 1 January 2019: Machine RM80,000 -) Accumulated DepreciationRM24,000 RM56,000 On 1 April 2019, a machine which was acquired on 1 July 2016, was exchanged with a new machine cost at RM26,000. Proceed value is RM11,500. Cost of the old machine is RM16,000. All machine were depreciated at 10% per annum. For the accounting year ends at 31 December 2019, you are required to prepare: a) Machine Account b) Accumulated Depreciation Account c) Disposal Account
Learning Outcome CHAPTER 4 Accounting For Trade Receivables a. State the nature of trade receivables under MFRS 9, MFRS 132 and MFRS 139. b. Provide the discussion on the recognition and measurement of trade receivables. c. Show the presentation of trade receivables in financial statements.
CHAPTER 4 63 4.0 INTRODUCTION Receivables are all claims against other entities. They are usually settled in cash. Two most common receivables are: • Trade receivables: Receivables arising from normal operating activities. • Nontrade receivables: All receivables arising from activities other than normal operations. 4.1 NATURE OF TRADE RECEIVABLES UNDER MFRS 9, MFRS 132 AND MFRS 139 4.1.1 Definition of Trade Receivables According MFRS 132, trade receivables are an entity’s claim to the future collection of cash or services. EXAMPLE 4.1 Focus Eye agrees to sell goods on credit to a customer, Mr X. The products sold are 20 units of eyewear at RM300/unit. Are the assets sold considered items of receivables? SOLUTION Yes. The assets are items of receivables because they are sold as part of normal operating cycle of the company. The company has contractual rights to receive cash in future. 4.2 RECOGNITION AND MEASUREMENT OF TRADE RECEVABLES 4.2.1 Recognition Criteria According to MFRS 9, trade receivables are initially recognized when the entity becomes a party to the contractual provisions of the instruments.
CHAPTER 4 64 EXAMPLE 4.2 Focus Eye sold goods to Company A RM20,000. Company A pays a deposit of RM5,000 on 1 Jan and settles the remaining balance in the future. Is Company A considered as a party to the contractual provisions of the instruments? SOLUTION Yes, since the company is considered a party because Company A has acquired the goods from Focus Eye. Focus Eye has a contractual right to receive the cash in the future. Trade receivables arise from sale of goods or services on credit. But there are some issues arise regarding trade receivables: • At what time should the income be recognized by the business and recorded in ledger? • Should it be ... When customers order the goods? When goods sent to the customers? When the customers received the goods? When the customers pay the invoice? Under accrual concepts, trade receivables are recognized when goods and services are provided, and invoices issued to the customers. KEY POINT Credit: Sales Account Debit: Receivable Account
CHAPTER 4 65 4.2.2 Accounting For Uncollectible Receivables (Direct Method) The direct write off method of accounting for bad debts record the loss from an uncollectible account receivable when it is determined to be uncollectible. No attempt is made to predict bad debt expenses. This entry is made when the account has been determined uncollectible. Since this determination was made after the period in which the sale takes place, the matching principle is violated. EXAMPLE 4.3 Tech Co determines on January 20 that it cannot collect RM500 owed by its customer, Mer Ltd. SOLUTION Tech Co recognizes the loss using direct write – off method as follows: Jan 20 Dr Bad debts expenses 500 Cr Account receivables- Mer Ltd 500 The debit entry will charge the uncollectible amount directly to the current period’s Bad Debts Expenses account. The credit entry will remove its balance from the Account receivables account in the general ledger (and its subsidiary ledger). Sometimes, an account written-off is later collected due to some factors. Let say, Mer Ltd pays their debts in full on March 10. In this cases, the following two entries record this recovery: KEY POINT Debit: Bad debt expenses Account Credit: Receivables Account (To write-off an uncollectible account)
CHAPTER 4 66 March 20 Dr Accounts Receivables – Mer Ltd 500 Cr Bad Debts expenses 500 (To reinstate account previously write-off) March 20 Dr Cash 500 Cr Accounts Receivable – Mer Ltd 500 (To record full payment of account) 4.2.3 Accounting For Uncollectible Receivables (Estimated Bad Debts Method) Bad debts can be estimated based on sales or on accounts receivable. Since the amount that will eventually become bad are unknown, the uncollectable amount needs to be estimated at the end of the accounting period. This uncollectable estimated amount is known as doubtful debts. Allowance for doubtful debts is a contra account used to record estimated debts instead of a direct credit the trade receivable. It is because at this point, we do not know yet which customers will not be able to pay off their debts. In this method, an estimate of the total uncollectible accounts is made at the end of the period, and an expense is recognized. Example: Dr Bad Debts Expenses 2,000 Cr Allowance for Doubtful Debts 2000 (To record estimated uncollectible accounts.) KEY POINT Debit: Bad debt expenses Account Credit: Allowance for doubtful debts Account
CHAPTER 4 67 When the account is then determined to be uncollectible, the write-off entry is: Dr Allowance for Doubtful Accounts 400 Cr Accounts Receivables 400 (To write off an uncollectible account.) In some cases, the write off debts can be recovered. The receivable should therefore be reinstated as an asset. Dr Account receivables 400 Cr Allowance for doubtful debts 400 (To reinstate as an asset an accounts receivable previously written off) A separate entry will be made in the cash receipt journal to record the collection. Dr Cash 400 Cr Account Receivables 400 (To record receipt of a previously written off account.) EXAMPLE 4.4 Assume that MusicLand has RM50,000 of account receivables on Dec 31, 2019. Experience suggests that 5% of its receivables is uncollectible SOLUTION This means that after the adjusting entry is posted, we want the Allowance for Doubtful Debts Account to show a RM2,500 credit balance (5% of RM50,000). Let say the beginning balance is RM2,200, which is 5% of RM44,000 account Receivables on Dec 31, 2018. During 2019, accounts of customers are written off on Feb 6, July 10 and Nov 20. Thus, the account has a RM200 credit balance before Dec 31, 2019 adjustment.
CHAPTER 4 68 Adjusting entry to give the allowance account the estimated RM2,500 is: Dr Bad Debt expenses 2,300 Cr Allowance for Doubtful Debt account 2,300 Allowance for Doubtful Debts RM RM Feb 6 July 10 Nov 20 800 700 500 Jan 1 Balance b/d 2,200 Unadjusted balance 200 Dec 31 Adjustment 2,300 Dec 31 Balance c/d 2,500 The amount to be recorded is the initial amount that is the gross amount less trade or cash discounts and allowances. KEY POINT Debit: Trade receivables Account Credit: Sales Account Debit: Bank Credit: Trade receivables Adjusting entry Current year write-off Current year estimate of allowance for doubtful debts
CHAPTER 4 69 4.3 PRESENTATION OF TRADE RECEIVABLES IN FINANCIAL STATEMENTS Trade receivables will be disclosed in Statements of Financial Position. Some examples of SOFP are as follows: Source: https://gamuda.listedcompany.com/newsroom/Gamuda_Annual_Report_2 020_(Page_132_to_Back_Page).pdf Source: coursehero.com
CHAPTER 4 70 EXERCISE 1. Dondang Company applies the direct write-off method in accounting for uncollectible accounts. Prepare journal entries to record the following transactions. Date Transaction July 6 The company determines that it cannot collect RM9,000 of its receivables from customer, Muffin Co. July 20 Muffin Co unexpectedly pays its account in full. Dondang records its recovery of this bad debt. 2. At the end of financial year, Kabul Supply uses certain percentage of accounts receivables to estimate bad debts. On Dec 31, 2018, it has outstanding account receivables of RM53,000, and it estimates that 4% will be uncollectible. Prepare the adjusting entry to record bad debt expenses for year 2018 under the assumption that the Allowance for Doubtful Debts Account has RM915 credit balance before the adjustment and RM1,332 debit balance before the adjustment. 3. Wayang Company’s year end unadjusted trial balance shows account receivables of RM89,000, Allowance for Doubtful Debt Accounts of RM500 (credit), and sales of RM270,000. Uncollectible are estimated to be 1.5% of account receivables. Prepare year end adjusting entry for uncollectible. 4. Krup Krap Company determines on May 1 that it cannot collect RM1,000 of its account receivables from its customer, Marina. Apply direct write-off method to record this loss as at May 1. 5. A Dec 31, 2018, Esfahan Company reports the following information for its calendar year: Cash sales RM1,803,750 Credit sales RM3,534,000
CHAPTER 4 71 In addition, its unadjusted trial balance includes the following items: Account receivables RM1,070,100 (Debit) Allowance for Doubtful Debts RM15,750 (Debit) There was objective evidence that 10% of a RM150,000 debt owed by a debtor, Nathan Company, would probably be uncollectible. An aging analysis of the rest of account receivables indicated that an estimated of %% of these accounts is would be uncollectible. Required: a. Prepare the adjusting entry for this company to recognize bad debts. b. Show how Account Receivables and Allowance For Doubtful Debt appear in Statement of Financial Position as at 31 Dec 2018.
Learning Outcome CHAPTER 5 Accounting For Trade Payables, Provisions and Contingent Liabilities/ Assets a. Describe the nature of trade payables, provisions and contingent liabilities/assets under MFRS 132 and MFRS 137/ MFRS 17 (MPERS : Section 21 and 22). b. Explain the recognition and measurement of trade payable under MFRS 139 (MPERS : Section 22) c. Explain the recognition and measurement of provisions, contingent liability and contingent assets under MFRS 137/MFRS 17 (MPERS : Section 21) d. Describe the presentation of trade payables, provisions, contingent liability and contingent assets in financial statements.
CHAPTER 5 73 5.0 INTRODUCTION Payables are liabilities to pay for goods or services that have been received or supplied, and have been invoiced or formally agreed with the supplier (and include payments in respect of social benefits where formal agreements for specified amounts exist). Contingent is used for liabilities and assets that are not recognized because their existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the entity. 5.1 NATURE OF TRADE PAYABLES, PROVISIONS AND CONTINGENT LIABILITIES/ ASSETS UNDER MFRS 132 AND MFRS 137/MFRS 17 (MPERS: SECTION 21 AND 22) 5.1.1 Definition of Trade Payables Trade payable (TP) is an account within the general ledger that represents a company's obligation to pay off a short-term debt to its creditors or suppliers. 5.1.2 Category of Trade Payables Trade payables are nearly always classified as current liabilities since they are usually payable within one year. If that is not the case, then such payables can be classified as long-term liabilities. A longerterm liability typically has an interest payment associated with it, and so is more likely to be classified as long-term debt. Other types of payables, such as accrued expenses, dividends payable, or wages payable, are recorded in other accounts to identify them more easily. 5.1.3 Definition of Provisions, Contingent Liabilities and Contingent Assets Provision is another type of liability that should be considered in the preparation of financial statements. Information on provisions and contingencies should be disclosed to the users of financial statements. They need to know when obligations are due, so they can plan for appropriate action. The contingent liability may eventually be recognized as liability, which will reduce the profit and affect the cash flow of the entity.
CHAPTER 5 74 Definition of Provisions Provisions are liabilities of uncertain timing or amount or both (MFRS 137). A provision can be classified as a liability because it has all the characteristics of a liability. Characteristics of a liability: a) A past obligating event has occurred. b) The entity has a present obligation. c) There is a future outflow of benefits. Provisions must be differentiated from other liabilities such as payables and accruals, due to uncertainty about timing or amount. Payables are liabilities to pay for assets, goods, or services. Therefore, the timing and amount of payment to be made are certain. On the other hand, the timing or amount or both payment for provisions is uncertain. Examples: Provisions for litigation, warranties or product guarantees and refunds. The seller has an obligation to honor the warranty and refund the customer. Definition of Contingent Liabilities According to MFRS 137, a contingent liability is defined as : a) A possible obligation that arise from past events and whose existence will be confirmed only by the occurance or non-occurance of one or more uncertain future events not wholly within the control of the entity; or b) A present obligation that arises from past events but is not recognised because: i. It is not probable that an outflow of the resources embodying economic benefits will be required to settle the obligaion; or ii. The amount of the obligation cannot be measured with sufficient reliability.
CHAPTER 5 75 Definition of Contingent Assets According to MFRS 137, a contingent asset is defined as a possible asset that arises from past events and whose existence will be confirmed only by the occurance or non-occurance of one or more uncertain future events not wholly within the control of an entity. Examples : Claim that an entity is pursuing through legal processes (where outcome is uncertain); possible refunds from the government in tax disputes; possible receipts of monies from donation, bonuses or gifts. 5.2 RECOGNITION AND MEASUREMENT OF TRADE PAYABLES UNDER MFRS 139 (MPERS: SECTION 22) Trade payables is classified as financial liabilities. A financial liability is recognized when an entity becomes a party to a contractual provision of the instrument. Trade payables are measured at transaction price which is at fair value plus transaction cost to the supplier. The bases for the measurement are: a) Historical cost Historical cost measures provide monetary information about assets, liabilities and related income and expenses. b) Current value Current value measures provide monetary information about assets, liabilities and related income and expenses, using information updated to reflect conditions at the measurement date. The most commonly used is historical cost, of which liabilities are recorded at the amount of proceeds received in exchange of the obligation, or at the amounts of cash or cash equivalents expected to be paid to satisfy the liability.
CHAPTER 5 76 EXAMPLE 5.1 Vast Pro IT purchased good amounting to RM20,000 from the supplier, with credit term 2/10, net 30. What is the amount of trade payables? SOLUTION The amount of trade payables is RM20,000. Journal entry: Dr Purchase RM20,000 Cr Trade payables RM20,000 When Vast Pro IT settles the paymeny within 10 days; Dr Trade payables RM20,000 Cr Cash RM19,600 Cr Discount received RM400 5.3 RECOGNITION AND MEASUREMENT OF PROVISIONS, CONTINGENT LIABILITY AND CONTINGENT ASSETS UNDER MFRS 137/ MFRS 17 (MPERS: SECTION 21) 5.3.1 Provisions Recognition of Provisions According to MFRS 137, a provision is recognized when: a) An entity has a present obligation because of past event; b) It is probable that an outflow of resources embodying economic benefits will be required to settle the obligation; and c) A reliable estimate can be made of the amount of the obligation.
CHAPTER 5 77 EXAMPLE 5.2 Vast IT Pro provides warranties to their sale of printers to customers. Based on industry experience, it is estimated that the company will incur RM100,000 warranty costs. Does this entity have a present obligation and can the amount for provision be estimated reliably? SOLUTION Yes, Vast IT Pro has a present obligation (agreement in warranty) arising from a past event (sale of printers) to rectify defects, exchange the defective printers or even make full refund to their customers (probable future outflow). The amount of provision (for the warranty) can be estimated reliably (RM100,000). Present Obligation a) Legal Obligation Arise from a contract, legislation or operation of law. b) Constructive Obligation Arise from entity’s actions where: i. Based on past practiced, the entity has indicated to other parties that they will accept certain responsibilities; and ii. As a result, the entity has created a valid expectation on the part of those other parties that they will discharge those responsibilities. KEY POINT Past Event An obligation must have ocurred in the past to create an obligation at the reporting date. A provision is not recognized if the costs will be incurred for future operations such as future operating loss.
CHAPTER 5 78 Measurement of Provision The amount recognized as a provision shall be the best estimate of the expenditure required to settle the present obligation at the end of the reporting period. The best estimate is the amount that the entity would rationally pay to settle the present obligation. Estimation are based on prtevious experioence and reports from independent experts. If a provision involves a large population of items, the obligation amount is estimated using ‘expected value approach’. EXAMPLE 5.3 Vast IT Pro have different item of printers. Past experience and futureexpectation show that 80% of goods sold have no defect, 10% will have minor defect and 10% will have major defects. Repairing costs for minor defects would be RM100,000, whereas repair cost for major defects would be RM300,000. Using the expected value approach, show the journal entries to record the provisions. SOLUTION Type of printer Probability of repairs Cost of repairs RM Expected repairs RM A 0.80 0 0 B 0.10 100,000 10,000 C 0.10 300,000 30,000 40,000 Journal entries: Dr Repair expenses RM40,000 Cr Provisions for repairs RM40,000 (To record the provisions for repairs)
CHAPTER 5 79 5.3.2 Contingent Liabilities Recognition of Contingent Liabilities An entity should not recognize a contingent liability unless the possibility of an outflow of resources embodying economic benefits is remote. A brief description of the nature of contingent liabilities needs to be provided and where practicable: a) An estimate of its financial effect; b) An indication of uncertainties relating to the amount or timing of any outflow; and c) The possibility of reimbursement. 5.3.3 Contingent Assets Recognition of Contingent Assets A business should not recognize a contingent asset. It should be disclosed in director’s report where an inflow of economic benefits is probable. EXAMPLE 5.4 Vast IT Pro is taking legal action against their supplier. The legal advice is that it is probable they will win the case and will be awarded RM300,000. Is it possible for Vast IT Pro to recognize this award as asset? SOLUTION This is a contingent asset. A contingent asset cannot be recognized as as asset, even though the gain is probable and realibly estimated. The gain should only be recognized when is is certain.
CHAPTER 5 80 5.4 PRESENTATION OF TRADE PAYABLES, PROVISIONS, CONTINGENT LIABILITY AND CONTINGENT ASSETS IN FINANCIAL STATEMENTS Trade payable should be presented as current liability in the Statement of Financial Position. Provisions are reported either as current, or non-current liabilities, depending on the date of expected payment. If the provision is expected to be settled during 12 months from the reporting date, it is classified as current liabilities. Otherwise, the provision should be classified as non-current liabilities. A contingent liability is recorded if the contingency is likely, and the amount of the liability can be reasonably estimated. The liability may be disclosed in a footnote on the financial statements unless both conditions are not met. A contingent asset should be disclosed in the director’s report where an inflow of economic benefits is probable. When the realization of income is certain, then the related asset is not a contingent asset and its recognition as an asset is appropriate. Vast IT Pro Statement of Financial Position as at 31 Dec 2019 Note RM’000 Non-Current Liabilities Deferred tax liabilities 17 xxx Borrowings 18 xxx Provision for litigation xxx Current Liabilities Trade and other payables 19 xxx Provision for repairs xxx Borrowings 18 xxx Current tax liabilities xxx Notes to the Financial Statements - Note 19- Trade and Other Payables Balance as at 1 Jan 2019 Balance as at 31 Dec 2019 RM’000 RM’000 Trade payables Third parties xxx xxx Other payables Third parties xxx xxx Deposits received xxx xxx Accruals xxx xxx
CHAPTER 5 81 EXERCISE 1. A __________ balance is typical for Accounts Payable. 2. The balance in Accounts Payable is decreased with a __________ entry. 3. A RM2,000 invoice from a supplier for goods has terms of 1/10, n/30. If RM100 of the goods were returned to the seller, the amount to be remitted within the discount period is ____________. 4. Bubble Bhd. has been sued by its supplier due to breach of contract. You are required to discuss whether the liability can be recognized assuming that: a) It is probable that Bubble Bhd. would be liable for RM400,000 because of this lawsuit. b) It is not probable that Bubble Bhd. would be liable for RM400,000 because of this lawsuit. c) It is probable that Bubble Bhd. would be liable, however the legal advisers could not estimate the liability. 5. For each situation below, discuss how the entity should account for the transactions in accordance with MFRS 137. Gives reasons for your answer: a) During the financial year 2018, Vast Pro IT sued its main supplier for RM1.5 million damages for faulty supply of materials. As at the reporting date, a decision was favor of the entity. However, the hearing to determine the amount of damages would only be held after the reporting date. b) Mashmallow Bhd sold goods with a warranty for repairs due to manufacturing defects within one year from purchase date. Mashmallow Bhd estimated that the probability of defects will be 25% and estimated repair cost would be RM800,000. c) In 2018, an employee of Bengah Bhd sued the company for serious injuries, because of breach of safety regulations. The claim for the damages amounted to RM600,000. Legal adviser of Bengah Bhd suggested that the result would be unfavorable to the company. In addition, legal costs incurred during 2018 amounted to RM100,000.
CHAPT ER 6 Accounting For Revenue and Expenses Learning Outcome a. State the nature of revenue and expenses. b. Provide the discussion on the recognition and measurement of revenues under MFRS 15 (MPERS : Section 23) c. Provide the discussion on the recognition and measurement of expenses. d. Show the presentation of revenues and expenses in financial statements. REVENUE
CHAPTER 6 83 6.0 INTRODUCTION Income includes revenue and gains derived from ordinary activities of a business and includes sales, fees, interest, and dividends. Gains are derived from activities that are not part of the ordinary activities of a business. 6.1 NATURE OF REVENUE AND EXPENSES 6.1.1 Definition of Income/ Revenue Income is defined as increase in economic benefits during the accounting period in the form of inflow of assets or decreases of liabilities that result in increases in equity (Revised Conceptual Framework for Financial Reporting (2018). Revenue is income thet results from the ordinary activities of the business. For example, a furniture manufacturer is selling furniture as their income, but in the case of sell off its old office equipment, this will be recorded as other income. In general, there are three (3) main categories of income : a) Sale of goods. b) Rendering of services; and c) The use of an entity’s assets by others (interest, royalties and dividends). 6.1.2 Definition of Expenses Expenses are decrease in assets, or increase in liabilities, that result in decrease in equity (MASB). Expenses include expenses that arise during ordinary activities of the business. There are two (2) types of expenses: a) Revenue expenditure b) Capital expenditure
CHAPTER 6 84 6.2 RECOGNITION AND MEASUREMENT OF REVENUES UNDER MFRS 15 (MPERS: SECTION 23) 6.2.1 Recognition Criteria Accrual basis and realization concept are the two main accounting concepts and assumption to be complied. Malaysian Financial Reporting Standard (MFRS) 15: Revenue from Contracts with Customers was introduced by the Malaysian Accounting Standards Board to provide one comprehensive revenue recognition model for all contracts with customers to improve comparability within industries, across industries, and across capital markets. The core principle of MFRS 15 is that revenue is recognized when the goods or services are transferred to the customer, at the transaction price. Revenue is recognized in accordance with that core principle by applying a 5-step model as shown below: 5 Step Model: Identify the contract A contract is an agreement between two parties. A contract creates enforceable rights and obligations. It may be written, oral or implied by customary business practice. Identify separate performance obligations in the contract(s) Performance obligations are promises in a contract to transfer goods or services, including those a customer can resell or provide to its customer. Determine the transaction price Transaction price is the amount of the consideration a company is entitled to receive in exchange for transferring goods or services to customers. Determining the transaction price is straightforward when the contract price is fixed: it becomes more complex when it is not fixed.
CHAPTER 6 85 Discounts, rebates, refunds, credits, incentives, performance bonuses, and price concessions could cause the amount of consideration to be variable. Allocate the transaction price Transaction price should be allocated to distinct performance obligations based on relative standalone selling price. This may be the standalone selling price of a good or service when sold separately to a customer in similar circumstances and to similar customers. If a standalone selling price is not directly observable, estimate it by considering all information that is reasonably available, such as market conditions, specific factors, and class of customers. Recognise revenue when the performance obligation is satisfied Recognise revenue when the promised goods or services are transferred to the customer and the customer obtains control. This may be over time or at a point in time. The new standard provides indicators when control is transferred. Additionally, the new standard introduces a new concept and revenue is required to be recognised over time when: i. the asset being created has no alternative use to the company; and ii. the company has an enforceable right to payment for performance completed to date 6.3 RECOGNITION AND MEASUREMENT OF EXPENSES 6.3.1 Revenue Expenditure Revenue expenditure is a cost that will be an expense in the accounting period when the expenditure takes place. Revenue expenditures are often discussed in the context of fixed assets. The revenue expenditures take place after a fixed asset had been put into service and simply keeps the asset in working order. (The amount spent to acquire a fixed asset is referred to as a capital expenditure. The amount of the capital expenditure will be recorded as an asset and will then be moved to the income statement as depreciation expense over the years of the asset's useful life).
CHAPTER 6 86 Following are some examples of revenue expenditure: a) Wages paid to factory workers. b) Oil to lubricate machines. c) Power required to run machine or motor. d) Expenditure incurred in the ordinary conduct and administration of business, i.e. rent, carriage on saleable goods, salaries, wages manufacturing expenses, commission, legal expenses, insurance, advertisement, free samples, postage, printing charges etc. e) Repair and maintenance expenses incurred on fixed assets. f) Cost of saleable goods. g) Depreciation of fixed assets used in the business. h) Interest on borrowed money. i) Freight, cartage, transportation, insurance paid on saleable goods. j) Petrol consumed in motor vehicles. k) Service charges to motor vehicles. l) Bad debts. 6.3.2 Capital Expenditure A capital expenditure is an amount spent to acquire or significantly improve the capacity or capabilities of a long-term asset such as equipment or buildings. Usually the cost is recorded in a balance sheet account that is reported under the heading of Property, Plant and Equipment. The asset's cost (except for the cost of land) will then be allocated to depreciation expense over the useful life of the asset. The amount of each period's depreciation expense is also credited to the contra-asset account Accumulated Depreciation. The total amount spent on capital expenditures during an accounting year is reported under investment activities on the statement of cash flows.
CHAPTER 6 87 Following are some examples of capital expenditure: a) Purchase of furniture, motor vehicles, electric motors, office equipment, loose tools, and other tangible assets. b) Cost of acquiring intangible assets like goodwill, patents, copy rights, trade marks, patterns and designs etc. c) Addition or extension of assets. d) Money spent on installation and erection of plant and machinery and other fixed assets. e) Wages paid for the construction of building. f) Structural improvements or alterations in fixed assets resulting in an increase in their useful life or profit earning capacity. g) Cost of issue of shares and debentures (certain expenditures are incurred by the companies when share and debentures are issued). h) Legal expenses on raising loans for the purchase of fixed assets. i) Interest on loan and capital during the construction period. j) Expenditures incurred for the development of mines and plantations etc. k) Money spent to bring a second-hand asset into working condition. l) Cost of replacing factory building from an old place to a new arid better site. m) Premium given for a lease. EXAMPLE 6.1 Let's assume that a company made a capital expenditure of RM100,000 to install a high efficiency machine. The new machine requires routine maintenance of RM3,000 each month. This RM3,000 is a revenue expenditure since it will be reported on the monthly income statement, thereby being matched with the month's revenues. Normal repairs to the machine are also a revenue expenditure, since the expenditure does not make the machine more than it was, nor does it extend the machine's useful life. As a result, normal repairs will also be reported on the income statement as an expense in the accounting period when the repair is made.
CHAPTER 6 88 6.3.3 Recognition Criteria The assets produced and sold, or services rendered to generate revenue also generate related expenses. Accounting standards require that companies using the accrual basis of accounting and match all expenses with their related revenues for the period, so that the income statement shows the revenues earned and expenses incurred in the correct accounting period. The matching principle, part of the accrual accounting method, requires that expenses be recognized when obligations are (1) incurred (usually when goods are transferred, such as when they are sold, or services rendered) and (2) the revenues that were generated from those expenses (based on cause and effect) are recognized. The expense recognition principle states that expenses should be recognized in the same period as the revenues to which they relate. If this were not the case, expenses would likely be recognized as incurred, which might predate or follow the period in which the related amount of revenue is recognized. For example, a business pays RM100,000 for merchandise, which it sells in the following month for RM150,000. Under the expense recognition principle, the RM100,000 cost should not be recognized as expense until the following month, when the related revenue is also recognized. Otherwise, expenses will be overstated by RM100,000 in the current month, and understated by RM100,000 in the following month. Some expenses are difficult to correlate with revenue, such as administrative salaries, rent, and utilities. These expenses are designated as period costs and are charged to expense in the period with which they are associated. This usually means that they are charged to expense as incurred. The expense recognition principle is a core element of the accrual basis of accounting, which holds that revenues are recognized when earned and expenses when consumed. If a business were to instead recognize expenses when it pays suppliers, this is known as the cash basis of accounting.
CHAPTER 6 89 If a company wants to have its financial statements audited, it must use the expense recognition principle when recording business transactions. Otherwise, the auditors will refuse to render an opinion on the financial statements. 6.4 PRESENTATION OF REVENUE AND EXPENSES IN FINANCIAL STATEMENTS Revenue and expenses will be disclosed in Income Statement. Some examples of Income Statement are as follows: Source: masb.org.my
CHAPTER 6 90 Source: lumenlearning.com
CHAPTER 6 91 EXERCISE 1. The financial statement that reports the revenues and expenses for a period such as a year or a month is the ___________________. 2. Under the accrual basis of accounting, revenues are reported in the accounting period when the _____________________. 3. Under the accrual basis of accounting, expenses are reported in the accounting period when the ____________________. 4. Consider the following list of expenses incurred by a company. Examine this list and determine if each expense is revenue or capital expenditure. A. Purchase of a motor car B. Claim for a meal C. Purchase of shares in a supplier D. Purchase of a new computer E. Payment for hotel accommodation F. Receipt for petrol G. Purchase of raw materials H. Purchase of an autoclave I. Purchase of a set of spanners J. Payment of an insurance premium K. Wages L. Purchase of a new plot of land.
CHAPTER 6 92 5. From the following balances from the books of Fana Couture, draw up a trading and profit and loss account for the year ended 30 June 2019. Item RM Sales revenue 56,798 Cost of goods sold 32,532 General expenses 8,450 Sundry expenses 1,845 Advertising 2,378 Electricity costs 1,650 Rent received 1,240 Machine repairs 2,100 Insurance 3,400 Wages 17,645
CHAPTER 7 Accounting for Partnership a. Discuss the nature of partnership business according to Partnership Act 1961. b. Demonstrate the types of accounts for partnership. c. Provide the relevant accounting treatments on admission new partners and retirement or death of partners. d. Provide the relevant accounting treatment on the dissolution of partnership. Learning Outcome
CHAPTER 7 94 7.0 INTRODUCTION As the business expands, firms need more capital and people to manage the business and share its risks. In such a situation, people usually adopt the partnership form of organisation. A partnership is a type of business organizational structure where the owners have unlimited personal liability for the business. The owners share in the profits (and losses) generated by the business. Partnerships are a common form of organizational structure in businesses that are oriented toward personal services, such as law firms, auditors, and landscaping. 7.1 NATURE OF PARTNERSHIP BUSINESS ACCORDING TO PARTNERSHIP ACT 1961 The partnership form when two or more persons come together to carry out a business. Sec. 3(1) of Partnership Act 1961, partnership is the relation which subsists between persons carrying on business in common with a view of profit. 7.1.1 Definition of Partnership A partnership is like a proprietorship in many ways except that it has two or more co-owners. The partners share the profits and losses according to a sharing pattern already agreed. Persons who have entered into partnership with one another are individually called ‘partners’ and collectively called ‘firm’. The name under which the business is carried is called the ‘firm’s name’. A partnership firm has no separate legal entity, apart from the partners constituting it. A partnership must be dissolved if the ownership changes, as when a partner leaves or dies. If the business is to continue as partnership, a new partnership must be formed. Both, sole proprietorship and partnership are convenient ways of separating the business owner’s commercial activities from their personal activities. But legally, there is no economic separation between the owners and the businesses. 7.1.2 The characteristics of partnership business More information on the characteristics of a partnership: a. Ownership: A partnership is a business combination of 2 to 20 partners with the aim of making a profit. When in partnership with banks and stockbrokers, the number of partners should not
CHAPTER 7 95 exceed 10 people. In professional partnerships such as law firms, accountants, engineers and medical, the number of partners cannot be limited. b. Partnership Agreement: Not a requirement by law. Written agree provide clarification of partners mutual rights and duties. Point of reference for any issues or conflict arises in future. c. Profit and loss: Gains or losses are shared according to the conditions in the Partnership Agreement that are mutually agreed upon and signed together. d. Limited Life: Dissolve when any of the partner withdraw, decease (heirs have right to the share), bankrupt, insane (without court order) or with court order. e. Share of Liability: Unlimited liability for all liabilities incurred by the business (except limited partners), settlement to the extent of private properties. f. Taxation: Partnership not subject to income tax. Individual partners separately liable for income tax based on their share of reported profit. 7.1.3 Partnership Agreement All partnerships are governed by the Partnership Act 1961. In event that the partners make their own agreement, that agreement will prevail. However, for matters not covered within that agreement, the particular provisions in the Partnership Act will be applicable. In the Partnership Act, the main provisions spell out the following: • All profits or losses are shared equally. • Partners are not eligible for interest on their capital injected into the partnership. • All partners are entitled to take part in managing the business. • Partners are not eligible for salary. • Loans or advances by partners to the business will carry an interest at the rate of 8% per year. • Most decisions require majority of the partners. However, change of nature of business requires consent by all partners. • There must be expressed agreement when a partner is required to leave the partnership. • All existing partners must give consent if they want to introduce new partners into the business.